The Fed Paradox: Necessary Rate Hikes = Inevitable Crisis

The Taylor Rule is pretty simple. Created by economist John Taylor in the early 1990s, it dictates that the Fed should cut by one full percentage point for every percentage point into recession the economy declines. By this rule, the Fed should have cut all the way to -2% after 2008. But at that point, negative interest rates had never happened; so instead, we got 0% rates and rafts of Q.E. money printing.

But since then, both Germany and Japan have cut interest rates to negative levels. There is precedent. So when the coming recession hits, given we’re only at 1.5% now, what does the Fed do when there’s hardly any breathing room above 0%?

Economic research shows that in a recession, the Fed needs to cut rates at least 3% to get any stimulus in the economy…Not a big deal, right? They always cut rates more than 3%. In 2008 they cut rates from 5% to 0% immediately.

How can they cut rates by 3% if they’re only at 1.5% without going into negative territory? Well, they can’t. And at the Fed’s current projections, they still need 2 years until they get the Fed Funds Rate to 3%. That means the Fed is in a race between time and another recession. Which will come first in the next 2 years?

The answer: it doesn’t matter because both will happen. I call this the ‘Fed’s Paradox’. History shows that every time the Federal Reserve raises rates, it causes the economy to slow down or some kind of a crisis happens.

So steer way, way clear of investing in the USD and pick up something that thrives during the dollar’s decline…like gold.